Q1)Explain why the production possibility curve is concave or bowed out. Q2) Explain the income and substitution effects in the law of Demand. Give an example. Q3) Compare and contrast "public goods", "private goods", normal goods and inferior goods, substitutes and complementary goods.

See explanations.

Step-by-step explanation

Q1.

The PP curve is concave to the origin or is "bowed out" because of the principle of diminishing

returns or increasing opportunity costs. For example, if an economy is producing food and phones,

producing more phones means transferring resources from the food sector to the phone sector.

Food workers are not good at producing phones. Thus, the opportunity cost of producing more

phones means sacrificing incrementally more food. That is, the opportunity cost in terms of food of producing more

phones rises. Had the opportunity cost been constant, the PP curve would have been linear.

Q2.

The Law of Demand declares that the quantity demanded varies inversely with price. Higher the price,

lower the quantity demanded.

When price of a product increases, people substitute it with other products whose prices are lower.

Therefore quantity demanded declines.This is the substitution effect.

The buying power of consumers declines or their real income falls when price goes up. So they buy

less of that and other products. This is known as the (real) income effect.

Price of Nike shoes goes up. People buy fewer Nikes and more Asics.

Q3.

Private goods are paid for by the consumers and they are strictly for the benefit of the consumers

willing to pay for them. Public goods are provided by the government or the public sector which are

for the benefit of society. People may not be excluded from using them even if they choose not pay

for them. For example, the super highways in the US and Germany are examples of public goods as

is defense.

Normal goods are those whose purchase depends on income of the buyers. Higher the income, greater

the demand for normal goods.

Inferior goods are those whose demand decreases as income of buyers rises. That is, they possess

negative income elasticity. Dining out is a normal good. An example would be the cheapest cuts of meat. When income rises, people abandon the cheap meat and buy the better cuts.

Substitute goods are those which can take the place of a particular good. For example, in talking about

bananas, Dole and Chiquita brands are substitutes for the Del Monte variety.

Complements are goods which accompany the consumption of a particular good. When the price of good X

declines, quantity demanded rises. The demand for the complement will rise as well.

If the price of pizzas drops, and beer is usually consumed with pizza, then the demand for this complenent

will also rise.